Family, Estates & Trusts 


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How Do Family Trusts Work in Canada?

A family trust can be a very powerful estate planning tool. You can use a family trust to achieve a number of goals, including protecting assets and wealth, increasing privacy, avoiding probate fees, and reducing tax liability.

Many people have a good understanding of Wills, but only a general familiarity with the concept of a trust. Trusts offer many benefits—but they must be well understood to be used effectively. In today’s blog post, we will discuss the concept of a family trust so you can start to think about whether a family trust is right for you and your family members.

If you want to know more or wish to discuss your unique family circumstances, we welcome you to reach out to Onyx Law Group. Our estate planning lawyers can help you determine whether a family trust would be advantageous and recommended as part of your succession plan.

What is a family trust?

What is a family trust?

A family trust is a legal relationship in which one person (the “settlor”) transfers property to another person (a “trustee”) to hold for the benefit of another person or people (the “beneficiaries”). The property can be money, real estate, business interests, or investments. Once the property is transferred into a family trust, it is no longer the property of the person who transferred it. The property belongs to the trust, and the trustee must manage the trust property in accordance with the terms of the trust document.

There can be one or more trustees. With family trusts, the trustees are often the parents, grandparents, or other senior family members. A trusted financial advisor or professional trustee can also be named as a trustee. The beneficiaries are other family members such as children, grandchildren, parents, or a spouse, for example. It’s also possible to include a corporation as a beneficiary, provided the company is owned entirely by one or more of the beneficiaries of the trust.

How to set up a family trust in Canada?

A family trust is set up by preparing a written trust agreement or trust deed. An estate planning lawyer and a tax lawyer, accountant, or other financial advisor should be involved in preparing the trust document, as there are several important decisions to be made at this stage.

The trust document must clearly set out the names of the settlor and trustee(s) and the trust’s beneficiaries. It must also set out the scope of the trustee(s)’s powers and contain detailed instructions outlining how the family trust assets are to be transferred into the trust and managed by the trustee(s).

Types of family trusts

Types of family trusts

Trusts can be created during the lifetime of the settlor—these are called inter vivos trusts – or they can be created on death, typically within the Will of the deceased—these are called testamentary trusts. In today’s blog post, we are talking about inter vivos trusts. There are two types or ways of setting up an inter vivos trust:

  • Discretionary trust. A discretionary family trust is one in which the trustee has the power to decide how and when to distribute trust property among the beneficiaries. The trustee has control and flexibility to determine which beneficiaries benefit and in what amounts.
  • Non-discretionary trust. With these types of trusts, the trustee is required to make distributions from the trust in accordance with the specific instructions in the written trust document.

Family trusts are typically discretionary trusts, but not always. It’s also possible to take a hybrid approach; for example, when setting up a family trust, the trust document can state that distributions of the trust’s capital property are non-discretionary, while distributions from the trust income are at the trustee’s discretion.

Benefits of Setting Up a Family Trust

Benefits of Setting Up a Family Trust

Family trusts offer several major benefits, including the potential for significant tax advantages (which are discussed in the next section). Here are some of the primary non-tax benefits of setting up a family trust:

  1. Asset protection. Transferring assets into a discretionary family trust shields the assets from creditors, lawsuits, and other types of claims, including family law claims if one of the beneficiaries separates from their spouse. The assets held in trust don’t belong to the settlor or the beneficiaries, so they can’t be taken to satisfy a debt, liability, or judgment against one of those people.
  2. Control. The settlor of a family trust is no longer the owner after transferring assets into the trust, but the settlor can maintain a certain level of control, in terms of who they choose to act as trustee, and what instructions they provide in the trust document that governs how the trust property is to be administered.
  3. Wealth transfer and continuity. A properly structured family trust ensures the smooth transfer and management of wealth among family members, even after the death of the settlor.
  4. Succession and estate planning benefits. Inter vivos family trusts are not subject to probate and are not subject to probate fees or estate taxes. Any assets held in the family trust are not subject to capital gains tax on the death of any particular person (see below for more on tax benefits). Another benefit is that family trusts can help avoid Will disputes. They are not subject to wills variation claims.
  5. Privacy considerations. Inter vivos trust documents are private and confidential. They bypass the probate process, which is public. Anyone can access records or view a Will that has been probated.
  6. Protection of beneficiaries. Family trusts can be set up for specific purposes, such as supporting the education of beneficiaries or protecting family members who are mentally infirm or not capable of managing their own finances. A non-discretionary family trust can also be used to safeguard assets and income for a disabled beneficiary to preserve that individual’s eligibility for government disability assistance.

Tax Benefits and Tax Consequences of Family Trusts

Tax Benefits and Tax Consequences of Family Trusts

A family trust offers tax benefits and the potential to minimize your tax burden. A family trust is not a separate legal entity the way that a corporation is, but a trust is treated as such under Canadian tax law. A family trust is considered a separate taxpayer. The trust must file its own T3 tax return, report its own income, and pay its own income tax bill. There are costs associated with structuring and maintaining a trust, and a trust pays tax, but even so, there are several important tax advantages that can make family trusts very worthwhile.

Tax deferral

The first of the major tax benefits is tax deferral. The usual rule for income tax purposes is that when a person dies, they are deemed to have disposed of all their assets at fair market value, with taxes payable on any capital gains.

Not so with assets held in a family trust. Any capital gains on property held in a family trust are payable on a tax-deferred basis, meaning the deceased person’s estate has less of a tax burden. Any tax associated with a gain on capital property skips to the next generation. It’s important to mention, however, that a family trust is considered to have disposed of all of its capital property on the 21st anniversary of its creation. That rule is intended to prevent indefinite tax deferral.

Income splitting

The next of the major tax benefits is income splitting. For income tax purposes, the income of most types of trusts is taxed at the highest marginal tax rate. However, trust income that is distributed to beneficiaries can be taxed in their hands instead of being considered taxable income of the trust. Each beneficiary of the trust pays tax on the distributed income based on their respective income tax brackets.

There is a great opportunity for tax savings if, for example, beneficiaries of the trust such as a spouse, children, or grandchildren have little income or no income. Split income is taxed at their tax lower bracket. Note that recent Income Tax Act amendments to the tax on split income rules have limited some opportunities for split income.

Lifetime Capital Gains Exemptions

Lifetime Capital Gains Exemptions

The lifetime capital gains exemption (“LCGE”) is a tax benefit relating to the sale of shares in a qualified small business corporation (“QSBC”) or qualified farm or fishing property (“QFFP”). The LCGE allows an individual taxpayer to sell those kinds of shares without paying regular income tax on the capital gain, up to a set maximum. In 2023, the cumulative lifetime limit was $1,000,000 for dispositions of QFFP and $971,190 for dispositions of QSBC.

A family trust is not allowed to claim the LCGE, but the beneficiary of a family trust is, provided certain conditions are met. The set lifetime limits must be respected, the trust document must allow for the distribution of capital gains to that beneficiary, and the trust must make the necessary designations required by the Income Tax Act.

If there are multiple beneficiaries of the family trust who meet the LCGE criteria, the capital gains can be allocated among them in a way that minimizes the overall tax consequences arising from the sale of that qualifying property.

A few important considerations arise with respect to multiplying the LCGE in this manner. First, it must be recognized that caution is necessary if capital gains are to be allocated to a minor. Second, it’s important to understand that capital gains are legally the property of the beneficiary to whom they are allocated. The rules around the LCGE are very complex; professional advice is highly recommended if you are considering using this tool with respect to a privately owned business.

Other tax benefits of family trusts

The benefits listed above are by no means exhaustive. Family trusts can be used in a number of other ways to reduce income tax. For example, the dividend tax credit and personal tax credit can be claimed by family trust beneficiaries with little or no other income (e.g., students), allowing them to receive dividends from a Canadian company tax-free. A prescribed rate loan to split income with other family members is another strategy for using a family trust to shift income from high-earners to lower-earners.

Another strategy is the estate freeze. Canadian tax law permits an “estate freeze” which is especially advantageous for family business owners. An estate freeze allows for the value of an asset to be frozen or limited at its current fair market value; any future growth in that asset’s value can be structured to accrue to the discretionary family trust. Locking in the current value allows you to prepare for the tax liability when you die without having to sell the company, and allows the beneficiaries of the family trust to share the company’s profits through dividends.

Want to know more about family trusts?

Succession planning requires careful consideration and advice from an estate planning lawyer. Professional advice from a tax lawyer, accountant, or other financial advisor may also be necessary. Our lawyers can advise you about the different options available and help you design an effective estate plan.

When preparing estate plans for our clients, we take care to understand their unique needs, goals, and circumstances to ensure their estate assets are effectively and efficiently managed. Consult with our experienced team at (604) 200-8492.

We are proud to offer our legal services to the people of Vancouver, BurnabyNew WestminsterSurreyCoquitlam, Kelowna, and all other surrounding areas.

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Onyx Law Group represents clients in family law, estate and trust litigation, estate planning and probate matters. Consult with our experienced team at 
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